Recovery in sight: upgrade GARPs to Buy: Industrial/CNCB(H)/SZDB
Cyclical recovery in sight; stronger-than-expected loan growth
We continue to prefer China banks among regional banks and upgrade our
sector stance further to positive from neutral, given recent housing market
stabilization and China pro-domestic-growth policies, and as our
economists upgraded 09E/10E GDP growth to 8.3%/10.9% yoy. We forecast
FY09 new loans will reach Rmb6.5 tn to Rmb7tn, or growing 20% to 22%
yoy (c. 23% FY08 GDP), higher than our previous estimate of 16% to 18%.
H/A-share bank valutions at historically high discount to markets
China banks’ average valuation discounts to overall H-/A-share markets are
at historically high levels, suggesting sector rotation potential and better risk
reward at current valuation levels which are well below historical median.
Potential NIM stablizing in 2H09 as a sector catalyst
The NIM and NPLs of China banks tend to be pro-cyclical. We expect NIM to
stabilize in 2H09 after a sharp qoq decline in 1Q09 and modest pressure in
2Q09, on better loan mix and deposit mix if macro recovers, which could
drive positive earnings revisions and valuation rerating.
Raise estimates; H-share 09E/10E consensus estimates appear low
We raise 09E/10E/11E estimates by average 7%, 19% and 14% for listed
banks, respectively, due to higher loan growth assumptions and lower credit
costs assumptions on near-term abating NPL risks. Our 09E/10E estimates
for H-share banks are on average 9%/15% higher than Reuters’ consensus
estimates respectively. As share prices could be volatile in 2Q09 on clarity on
the pace of China macro and banks’ NIM recovery, we would add on dips.
Upgrade SZDB, CNCB(H), CCB(A) to Buy; Industrial to Buy, CL
We upgrade three mid-cap banks to Buy from Neutral, as we view these as
GARP plays: Industrial Bank (601166.SS, Buy, on Conviction List), SZDB
(000001.SZ, Buy) and CNCB (H)(0998.HK, Buy). We also upgrade CCB(A)
(601939.SS) to Buy from Neutral on its valuation and strong franchise, and
SPDB (600000.SS) to Neutral from Sell on valuation.
To adjust for the increasing long-term NPL risks generated from strong
2009E loan growth, we factored in higher long-term credit costs to derive
banks’ long-term ROEs, as we now assume 20% of new loans in 2009E will
become NPLs over 5 years after 2011. Key risks include weaker or longerthan-
expected macro recovery.

Table of contents
Cyclical recovery in sight — three key investment themes, upgrade three GARP plays to Buy:
Industrial, CNCB (H) and SZDB 3
Raising earnings estimates on strong loan growth, NIM recovery and lower credit costs 18
Valuation: Factoring in long-term NPL risks challenges 22
Disclosures 38